Did you ever hear the joke about the guy falling from the window of a 50-storey building? As he passes each floor, he says to himself for reassurance: so far, so good … so far, so good.
Of course we all know the fall isn't really that important. It's the landing that counts.
It's a worthwhile parallel to what we're seeing in Her Majesty's Kingdom of Great Britain and Northern Ireland. Banking stocks are in free-fall. Where and how they land will mean everything. And with each passing day, that landing looks more and more like nationalization.
But here's the dirty little secret: that's already happened. Banks, at the best of times, operate as agents of the State: capital restrictions, government charters, business limitations, deposit guarantees, etc. At the worst of times – and I can't imagine it gets much worse than this – government involvement is ramped up even further.
At present we've got backstops worth 50,000 pounds ($68,500) on deposits and guarantees on bank debt courtesy of the British taxpayer. Banks are operating almost entirely off the back of short-term loans extended at penal rates of interest that rank senior to other obligations. Future business plans are scrutinized by lawmakers and not-so-subtle suggestions proffered as to how the banks should advance the (billions) in cash they've been handed. Share prices are trading at fraction of their historical – and wind-up value.
Sound familiar? It should. It's the effective condition under which every company under Chapter 11 bankruptcy protection in the United States operates. Right now, the Treasury is the Debtor-in-Possession (DIP) lender, Gordon Brown is the Delaware judge and Alistair Darling the People's restructuring litigator.
And I don't have a problem with that. The vast majority – but not all – of the UK banks simply would not be solvent but for myriad government support.
I could – and often have – argue that the government's tactics have been flawed: Mervyn King was too late to appreciate the gravity of the credit crisis, Gordon Brown too indecisive to understand that directly buying mortgage assets would have offered a better return for taxpayers than shoring-up the limp capital base of the banks.
However I can't argue with the thesis: the banks are dying, they're critical to the nation's infrastructure and they need to be saved.
But here's my problem. Savvy restructuring lawyers in the US have often thrown a small bone to the equity holders in Chapter 11 workout (stocks sit at the very bottom of the payback ladder and typically have no claim on assets). Why? It's simple. They know they're going to have to hit-up equity investors for new capital when the company they're trying to turnaround goes public again.
This is a tactic the British government needs to adopt – and fast. Nationalization is one thing – in fact, it's already here – but obliterating shareholders, both domestic and foreign, in the process is quite another. Unless the Treasury intends to be in the banking business for the next century or two, it's going to need to equity investors to buy the restructured banks. These days, stockholders don't take too kindly to having their wealth destroyed by lawmakers. They're far happier buying risk-free assets like US Treasury bonds, Japanese government bonds and gold.
It's safe to assume the financial sector has fundamentally changed for at least the next 10 years and that banks shares will look more like regulated utilities than dot-com skyrockets.
So who's going to want to buy them - especially after having been burned by an indecisive government owner? In fact, who's going to want to invest in any UK asset with the overhanging risk of State-sponsored confiscation? This is why we're seeing decade-low levels for the pound, capital flight from Gilts and a general wariness for all things financial bearing the Queen's image.
The government's probably too late to do the right thing on toxic assets. It's committed to the bank capital support model and needs to see it through. But if it wants a future exit strategy, it had better remember the age-old market: Fool me once, shame on you. Fool me twice, shame on me.
That's something Brown and Darling aren't going to want to dip their toe into.